On Thursday, the Federal Communications Commission is scheduled to start the most important auction of the decade--the reallocation of television stations 50-69 to other wireless services.

Through a complex and convoluted process, ignoring any rational economic input, FCC Chairman Kevin Martin determined how to slice and dice the spectrum, put all sorts of uneconomic conditions on the spectrum blocks, tweak the auction rules against the advice of world-renowned auction experts, and set unrealistically high reserve prices in the face of obvious credit market problems.

The FCC set reserve prices on various blocks totaling over $10 billion, but may well not reach that level because of the change in the credit market and asset valuations throughout the economy, including wireless assets.

Now, with the closure of Frontline Wireless, Martin is indicating that he may change some crucial rules after all the potential bidders decided whether to participate in the auction. If he changes the rules, it would threaten the whole FCC auction process, and possibly any government auction.

FCC auctions have worked because they are fair, open, transparent, and efficient. Changing the rules midstream to benefit one or two firms and shut out all competitive firms would not be any of those things--instead it would be bad for consumers and bad government. In the future, firms would bet on being able to get rules changed and put even more pressure on the FCC to do so. The reputation for committing to announced rules is very important in designing markets and auctions in particular; with one bad move the FCC can tarnish its reputation.

FCC auctions have worked because they are fair, open, transparent, and efficient. Changing the rules midstream to benefit one or two firms and shut out all competitive firms would not be any of those things--instead it would be bad for consumers and bad government.

The FCC set up the "D block" in the upcoming auction as a public-private partnership band to help build out much-needed wireless service for public safety agencies. But instead of only requiring a "Most Favored Nation" (MFN) clause for public safety and an interoperability requirement, leaving the rest to open commercial negotiations, the FCC set forth potentially draconian and unknown requirements on the D-block licensee.

The D-block licensee is required to come to an agreement with public safety or face loss of the license and $128 million. But the parameters of the agreement and costs are unknown. I would love to negotiate with someone who stands to lose $128 million if they don't reach an agreement with me! And for this chance, the FCC set a reserve price of $1.33 billion on the D block alone.

Contrary to all of the advice it got from auction experts, the FCC decided to allow bids below the reserve price. Now, it is rumored that the FCC might ignore the reserve price and sell the license for less than it promised, changing the rules of the game at the 11th hour when firms that thought the rules would be enforced have no chance to compete.

While I think that the $1.33 billion reserve price for the D block is far too high, accepting bids below it is a bad idea in this case and a dangerous precedent for all future auctions. Instead of compounding the errors that have been made to date for the D block, the FCC should either "stay the course" and maintain its announced reserve price or restart the D block completely (which may occur if it stays the course).

If the FCC does stay the course, it may be the case that a bidder will decide to meet the reserve price and the agency will be alright. However, the FCC's indications that it might accept a lower price for the D block means that it is much less likely that a bidder will meet the reserve price.

The FCC has the chance to minimize some of the damage by continuing with the rest of the 700MHz auction and delaying the D-block auction while it rewrites the rules to be economically rational. Given the auction rules, there is limited benefit to having the D block sold at the same time as the other licenses as bidders cannot readily shift between the D-block and other licenses. So, the cost of pulling the D block and selling it a couple of months later is low. However, the benefits could be high as the FCC could put in place a much better system for providing certainty for licensees and a firm, market-based system for public safety entities to benefit from commercial competition for the prices they will face for service.

If the FCC wants to use the D block to promote a public-private partnership, it could simply mandate MFN pricing for public safety on the D block in exchange for some usage of the public safety spectrum when capacity is available. The D block would have to be interoperable and allow public safety to use the D block in times of emergency (to be determined in advance of the auction). Finally, the FCC should reduce or eliminate the reserve price to ensure a timely sale of the license.